Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail
Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Treasury Bill

What it is:

A Treasury Bill, or T-Bill, is short-term debt issued and backed by the full faith and credit of the United States government. These debt obligations are issued in maturities of four, 13 and 26 weeks in various denominations as low as $1,000.

How it works (Example):

T-Bills are issued at a discount to the maturity value. Rather than paying a coupon rate of interest, the appreciation between issuance price and maturity price provides the investment return.

For example, a 26-week T-bill is priced at $9,800 on issuance to pay $10,000 in six months. No interest payments are made. The investment return comes from the difference between the discounted value originally paid and the amount received back at maturity, or $200 ($10,000 - $9,800). In this case, the T-bill pays a 2.04% interest rate ($200 / $9,800 = 2.04%) for the six-month period.

Why it Matters:

T-bills are considered the safest possible investment and provide what is referred to as a "risk-free rate of return," based on the credit worthiness of the United States of America. This risk-free rate of return is used as somewhat of a benchmark for rates on municipal bonds, corporate bonds and bank interest.

In addition, because T-bills are very short-term investments (as opposed to Treasury notes and Treasury bonds) there is very little interest rate risk. When interest rates rise, the price of fixed-income securities falls as the relative value of their future income stream is discounted. However, short-term securities are much less affected than long-term securities because higher rates will have a very limited effect on future income streams.

Treasury interest is also exempt from state and local taxes because of the law of reciprocal immunity, which stipulates that states cannot tax federal securities and vice versa.

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